The small-ticket lending sector has seen a flurry of regulatory activities lately. Reserve Bank of India (RBI) issued rules for microfinance. To address the customer security issues attributed to digital lending practices, the RBI took a series of steps in quick succession. It prohibited loading of prepaid instruments issued through credit lines by non-banks, notified its working group’s recommendations on digital loans and issued guidelines for the same. These rules define digital lending as “a remote and automated lending process, primarily through the use of seamless digital technologies. Also, industry reports have pointed out that over 60% of digital lending is done through platforms and mobile apps. Lending is low-income, new-to-credit (NTC) borrowers. Lending to such customers using remote and automated processes is a powerful mix. In our quest for innovation, we must pause to consider that The why, what and how of such lending and its impact from a client point of view Well established Microfinance Models (MFs) have embraced digitization in a calibrated manner while maintaining customer focus.
The MF model of group lending was an innovation that catalyzed the delivery of micro-credit to low-income NTC borrowers in the early 90s. Giving credit to such borrowers was a challenge due to the inability of banks to give small value loans without collateral. Microfinance institutions (MFIs) overcome the information asymmetry inherent in such lending due to the paucity of documents and data through access to information embedded in their social networks through the joint-liability group lending model. This required innovations in product design, process and customer engagement based on consumer behaviour. The MF model focused on doorstep delivery of services, understanding of customer’s livelihood and cash flow, and lower operating costs. Backed by an enabling regulatory environment, lenders using this model cater to approximately 60 million urban and rural customers.
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Over the past decade, the MF sector has been digitized keeping in mind the level of financial literacy and the development of consumer behaviour. It now features an optimum blend of technology and human touch. A separate credit bureau for MF loans was set up in 2011 and now all loans and repayments are reported to the credit bureaus. Non-banking financial company MFIs and banks have invested in a technology framework to enable data uploads to credit bureaus on a daily or weekly frequency. Fast resolution of loan applications and customer complaints is achieved using tab-based solutions. A field force of around 200,000 provides a helpful digital interface to the borrowers. Know Your Customer documents are read using optical character recognition and verified using API integration with a central KYC registry. Underwriting models use data on the credit experience with different customer segments and essentially use credit bureau reports. Almost 100% of microfinance loans are being disbursed digitally. Also, efforts to make borrowers comfortable with digital repayment have shown good results. All these initiatives are in addition to weekly or fortnightly group meetings involving field officers of the lender to provide the necessary human touch in last mile delivery of financial services.
Lending to NTC low-income borrowers is to work as a ‘seller beware’ model keeping in mind their level of financial literacy. For an NTC borrower, this literacy is acquired over time through experience with financial products, peer-group discussions and regular interactions with the lender. We should consider whether digital interactions can replace this biological process.
Microfinance regulations require the lender to ensure that annual loan repayment obligations are capped at 50% of the annual income of the borrower family. The paucity of documents, multiple streams of income and cash flows make estimating seasonal income and expenses an intense exercise. The use of surrogate indicators is a poor replacement for in-person interactions and runs the risk of inadvertently pushing borrowers into over-indebtedness. With the use of credit reports becoming central to underwriting, delays in repayment by such borrowers may result in their ‘financial exclusion’. With a remote grievance redressal system, such issues can be widespread: A study by FINCA International showed that only 30% of customer complaints are filed through the formal system; The rest are addressed by on-ground staff during regular interactions.
The customer-centric approach to digitization of the lending process has the potential to deliver huge benefits. The rules issued by the RBI have several positives, such as mandatory free-look period during which a borrower can cancel the loan, issuance of a vital fact statement with details of interest rates and other terms, and the customer’s requirement before the increase. Consent required A loan amount.
Plus, there are other features of remote and automated lending that would benefit from a closer review. These are related to assessment of income and repayment capacity, ensuring against over-indebtedness, promotion of financial literacy and grievance redressal.
These are the personal views of the authors.
Alok Mishra and Vinay Kumar Singh are respectively the CEO and Director, and Head of Self-Regulatory Organization, Microfinance Institutions Network (MFIN).
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